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Finesse: March-June 2011

What is happening in the Indian financial sector?

Going by the trends of the last four months, financial services in India appear to be at the cusp of certain game-changing developments.

The foremost in this list is the possibility of deregulation of interest rates on savings accounts.

The RBI released a discussion paper to seek public opinion on this matter in April 2011. Favoring the deregulation, the central bank has opined that deregulation would benefit the savers and improve transmission of monetary policy, since any rise in policy rates will be followed by a corresponding increase in the interest rates on savings accounts. It is noteworthy that several of the country’s prominent banks have fiercely opposed this move.

Another development in this year’s budget has emerged from the finance minister’s proposal to allow foreign investors to invest directly in Indian equity fund schemes.

IRDA has announced that all insurance policies in electronic format will now be considered as valid insurance contracts.

The Finance Ministry has allowed foreign individuals to invest up to US$10 billion in domestic mutual funds.

Struggling for growth ever since the imposition of the ban on entry loads, the asset management industry may get just the kind of impetus its needs to get its derailed growth momentum back on track with the implementation of this scheme. Also, reports suggest that some of India’s largest asset managers are already planning to enhance their global distribution network.

The third most important development pertains to the insurance industry, in which the Insurance Regulatory and Development Authority (IRDA) has permitted electronic issuance of life and non-life insurance policies.

The regulator has announced that all insurance policies in electronic format will now be considered as valid insurance contracts. The IRDA has also invited applications from companies to act as insurance repositories to maintain and manage insurance data in electronic form. This policy is expected to increase speed and accuracy in effecting any changes and revisions required in policies and also make the process convenient for customers.

Inflationary concerns continued to beleaguer RBI as it furthered its policy measures to curb spiraling prices. As a result, the repo rate increased by as much as 300 basis points to reach 8%, while the reverse repo rate has climbed by 350 basis points to 7% since March 2010.

Apart from pushing the interest rates up, the RBI has also instructed banks to reduce their incremental credit-deposit (CD) ratio.

This is aimed at curbing their credit expansion, which is the main factor contributing to demand-side inflation.

While the central bank’s actions can be justified in view of the current inflation, they have raised concerns about their possible impact on the country’s economic growth. It will be interesting to see how the RBI walks this tightrope in its effort to stabilize the delicate balance between growth and inflation in coming quarters.On another note, as many as 19 banks have been penalized by the RBI for violating currency derivative norms and selling products to companies that did not understand these rules. This ruling, which imposed penalties ranging from INR 0.5 million to INR1.5 million, ended a three-year dispute between banks and several small companies. It is significant, since it sets a precedent in such matters in the future.

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